It is a generally known practice for investors to seek to make investments with high returns within a risk profile. That investment considerations may also include other investment characteristics, such as: liquidity, transparency, price, growth potential, income potential, regulatory considerations, tax considerations, accounting considerations, and so on, is also well known. While investor needs differ, many share the goal of maximizing a return for a given level of risk.
Liquidity of an investment instrument is an important factor to many investors, particularly as liquidity relates to the evaluation of risk. Investments that can be more readily converted to cash, or other desirable instruments, quickly and without discount; are perceived to be less risky than similar less-liquid instruments. As a result, investors seeking strategies to manage risk and return usually prefer instruments that can be traded or redeemed compared to those that cannot.
Transparency of an investment instrument is another important factor to many investors as it relates to the evaluation of risk. Investments can be understood more easily based upon an issuer being open about a business associated with a particular investment. An investment with open details related to the associated business may be perceived to be less risky than similar less transparent instruments. As a result, investors seeking strategies to manage risk and return usually prefer instruments that are more easily understood compared to those that are not. Issuers may therefore seek to attract investor capital by providing financial instruments that deliver an appealing package of risk and return.
Providing liquidity and transparency through exchange listing and public reporting enhances an issuance but may be impractical for reasons including the burdens and costs of public registration, offering and exchange listing. As a result, many securities are privately placed and thinly traded or not traded at all.
While many large companies have the financial strength to register publicly and list their securities, many other companies including smaller issuers and special purpose companies and investment vehicles do not. In addition, some larger companies, operating companies and investment entities; that may or may not publicly register and list their securities; may still have limited liquidity and be less attractive to investors either because their investment instruments are not interesting to investors or well understood in the marketplace.
The importance of liquidity and transparency was particularly apparent during the financial crises of 2008 when the securities of otherwise attractive private structured financings including mortgage-backed securities and asset-backed securities, among others, traded at dramatic discounts to their net asset value because a lack of liquidity and poor transparency magnified the perceived risk of these instruments during a time of market stress. Many investors in these securities were required to sell and realized significant losses attributable in part to the inability to access trapped value.
It is worth noting that even liquid and transparent investment instruments may trade at significant discounts to the net asset value of the underlying assets. An example of where this may be important is the closed-end fund marketplace where fully transparent closed-end funds that are listed on major exchanges often trade at a discount to net asset value.
Another prior known way to address liquidity and transparency is with securities that can be redeemed for value on a periodic or continual basis. Publicly offered open-end mutual funds and exchange-traded funds provide liquidity and transparency by enabling the redemption of a single class of investment instruments in exchange for a pro-rata portion of an issuer's assets or the cash value of such assets. This direct access to the value of underlying assets greatly reduces the risk of holding assets in a vehicle. Generally, the process of redemption causes value to be withdrawn from issuers; therefore holders of non-redeemable instruments become disadvantaged compared to holders of the redeemable instruments. Making one or more other instruments redeemable as well is not practical using traditional redemption techniques. This is because the integrity of payout preferences and seniority for each different class may only be maintained on a relative basis with overly complex redemption formulae.
A bipartite stock certificate (as described in U.S. Pat. No. 4,093,276) created a redeemable investment unit separable into components that may be recombined into a single unit of redeemable equity. The components are essentially derivative interests in the issuer's equity rather than separate interests in its capital structure. This proved to be a major drawback contributing to entity-level taxation under the “Sears Regs” (reg. section 301.7701-4) that made the issuance of these certificates impractical.
Other securities similar to the bipartite stock certificate such as SuperShares™ divide investment units into more complicated interests in the equity of the issuer. One aspect each of these approaches has in common is that it creates derivative interests in the issuer's equity rather than direct interests in its capital structure. This may have important ramifications to the investor as to tax treatment, regulatory treatment and seniority, among others.
Financial engineers have created other instruments in their attempts to create multiple classes of redeemable interests. One such approach, described as a Proxy Asset Data Processor in U.S. Pat. Nos. 5,987,435; 6,513,020; and Patent Application number 2008/0027847, employs an indirect and cumbersome cash management system allocating referenced returns among trusts issuing equity.
Other prior art approaches and products exist as well; however, there remains a need in the marketplace for improved liquidity and transparency through the ability to redeem multiple classes of investment instruments. The preceding description is not to be construed as an admission that any of the description is prior art relative to the present invention.